Once boon to manufacturing industry, subsidized power is now risk to Korean economy with entire nation addicted to it

By Kim Da-ye

Korean flower growers are still recovering from unprecedentedly high electricity bills from last winter. The unusually harsh winter forced growers to run heaters longer, but the real surge in electricity costs came from Korea Electric Power Corp.(KEPCO)'s decision last November to boost prices for agricultural clients.

The state-run utility firm used to categorize agricultural electricity usage into three groups, each with different pricing. The power usage to heat and light greenhouses was in the middle category, which means that flower growers weren't subject to the highest rates. KEPCO simplified the system into two categories to increase electricity prices to deal with severe power shortages in winter. As a result, the base rate per kilowatt went up by 20 percent and the hourly usage charge rose by 44.5 percent.

Such trends are widespread across the agriculture industry and even in people's daily life. It costs merely 50 won ($0.4) to produce 1,000 kilocalories of heat with electricity, compared to 135 won with tax-free kerosene, according to a National Assembly research. Cattle farms have switched to electric heaters, while restaurants with floor seating have installed electric coils under the floor instead of using a gas boiler. In households, families used small electric heaters and pads. It appears the whole country has become addicted to cheap electricity.

However, the demand for and reliance on electricity is now backfiring. Nuclear plants, which generate a massive amount of electricity at relatively low costs, have been shut down. The country now faces the risk of a blackout. To deal with the power shortage, the government is coming up with various measures including price hikes.

Every solution carries risks. The Flower Growers Association in Goyang, Gyeonggi Province, protested against KEPCO's new pricing system and filed a petition against the Ministry of Agriculture and the Ministry of Trade, Industry and Energy (MOTIE).

Kim Tae-heon, a researcher at Korea Energy Economics Institute, projects demand for electricity will climb up 3.7 percent every year between 2012 and 2017, exceeding the rate of the country's economic growth. His report shows the surge in demand for electricity will account for a 53 percent increase in demand for all kinds of energy.

Furthermore, according to MOTIE, electricity consumed for air conditioning has increased around 20 percent every year since 2005. This summer, air conditioning is expected to account for almost a quarter of the total consumption, which is equivalent to the amount produced in 18 nuclear reactors.

Because many Korean industries have become dependent on cheap electricity, any changes made to deal with power shortage will have long-term efforts, indicating Korean leaders need to rethink the electricity pricing system, the energy mix and the attitudes toward renewable energy.

Why is electricity cheap in Korea?

According to the 2013 Energy Prices and Taxes report, jointly published by the Organization for Economic Cooperation and Development (OECD) and the International Energy Agency, for 2011, Korea's electricity price for manufacturing industries is the 11th lowest and for households the seventh lowest among 34 OECD countries. The price for manufacturers based on purchasing power parity, a method for determining the relative value of currencies, is $98.9 per megawatt-hour (MWh), which is about 33 percent cheaper than what households pay at $146.2 per MWh. Without considering purchasing power parity, the country's electricity price for industries is the fourth lowest and for households the third lowest among OECD nations.

Two factors contribute to the country's low electricity prices. One is heavy dependence on nuclear power to generate electricity. In 2012, Korea generated 29.5 percent of its electricity from nuclear power, according to KEPCO's monthly and annual reports. That's down from 31.1 percent in 2011 because several nuclear reactors have been shut down for failures.

In 2008, Korea set up the first plan for the future energy mix — basically which energy source would generate how much electricity. The government decided to generate 41 percent of electricity from nuclear power by 2030 and build more nuclear reactors.

The second factor is that cheap electricity represents an indirect subsidy to certain sectors. Traditionally, the government kept electricity prices low for industrial use to foster manufacturing industries. According to KEPCO, it supported the industries with some 14.4 trillion won between 2001 and 2011, with the highest amount reaching 2.2 trillion won in 2011. The agricultural and educational sectors have received similar benefits.

Cheap electricity backfires

Now, the two factors that have kept electricity prices low are the very causes of problems.

Heavy dependence on nuclear energy and subsequent glorification and promotion of that energy source has, in part, led to today's corruption scandals and failures in the nuclear industry. A handful of nuclear reactors were shut since key safety parts were found to have failed to pass quality tests but have been installed in nuclear reactors with fake certificates.

A report released in June by the National Assembly Budget Office (NABO) argues that the electricity shortage has caused less maintenance at power plants, which has increased the number of breakdowns. The report said that the percentage of failures out of the total number of generators soared to 59 percent in 2012 from 35 percent in 2011.

In Korea, low-cost power plants, like nuclear and coal-fired plants, are operated first, and more costly options including oil and natural gas are only used for additional electricity demand. The NABO report shows KEPCO lost 2.8 trillion won because it had to buy expensive natural gas to cover demand while the nuclear power plants are shut down. These losses are expected to lead to price hikes for general consumers in the future.

However, a bigger issue may be safety. Only a few months after problems were discovered, nuclear reactors were forced to operate again to prevent blackouts. For example, the third reactor at the Hanbit Nuclear Power Plant was shut down because of a fracture in the control rod, but Nuclear Safety and Security Commission approved its operation early June. The fourth reactor at the Hanul Nuclear Power Plant isn't operational because of a crack in the steam generator. A local news report claimed that it may be restarted this summer to meet demands.

"The NSSC (Nuclear Safety and Security Commission) restart approval for Hanbit-3 comes as a big surprise considering the complete ignorance of the safety authority regarding the falsification incident only a few months ago. Can the NSSC now seriously guarantee safety of all nuclear facilities in the country?" said Mycle Schneider, an independent nuclear policy consultant based in Paris.

"NSSC would be well advised to proceed with utmost care or abstain from restart authorizations until it has properly assessed its own failures."

The indirect subsidies to industries is also backfiring. The government has been asking large manufacturers to save electricity. In some cases, this has caused manufacturers to reduce production amid tough economic conditions.

The energy ministry announced in June an energy-saving plan that encompasses businesses. More than 2,600 companies with a contract demand of 5,000 kilowatts or more must reduce electricity consumption by 3 to 15 percent during peak hours between 10 a.m. and 11 a.m. and between 2 p.m. and 5 p.m. throughout August. Airports and hospitals were excluded from this restriction.

For example, the steel industry, which is the most dependent on electricity, is taking a blow. The Korea Iron and Steel Association vowed to consume 1.06 million kilowatts less every day between Aug. 5 and 30. Steel companies plan to repair and maintain facilities, operate their own generators and send their employees on holidays during this period. The association estimates the energy saved from this effort equals that produced by one nuclear reactor.

Rethinking pricing model

Rather than encouraging consumers to save energy, the government has focused on meeting soaring demands by supplying more. The greatest barriers to price adjustments include inflation concerns and fears for political challenges. Experts agree that cheap electricity was necessary for economic growth but say it's time to update the current pricing system to effectively manage demands.

One method suggested by experts is reducing the subsidies to various sectors. There are six categories of electricity usage: households, manufacturing industries, agricultural sector, educational sector, street lights and general purposes, which include usage in public and service sectors such as hospitals, hotels and restaurants.

So far, energy-saving campaigns and policies have targeted households and the public and service sectors. These groups altogether accounted for 35 percent of the total electric power consumption in 2012, according to KEPCO's annual report. Industrial consumption represented more than 55 percent.

The NABO report suggests the target should be the manufacturing industry because Korea is ranked fourth in terms of industrial electricity usage among OECD countries, while households only ranked 17th.

One specific policy suggested by the NABO is raising off-peak-hour prices because the major beneficiaries of the discounts are large corporations that consume the most power. The report shows five companies account for 56 percent of the total consumption during off-peak hours. They save about 36.3 billion won on average. The report said that electricity sales during off-peak hours result in a loss of 2.2 trillion won and is supplemented by higher prices charged during peak hours.

Another part of the power pricing system that the NABO has suggested to fix is the progressive scale system.

In Korea, consumers who use more electricity than the average would be charged more. There are six categories for the amount of electricity consumed, and the prices go up exponentially with the next scale. Experts have recommended simplifying the system. The NABO, for example, argues that low-income households with many family members are likely to consume more electricity and end up paying much more than a high-income household consisting of one person. Making the system less progressive, however, raises concerns that it would encourage more power consumption.

For many years, it has been suggested that electricity prices should be linked to fuel costs. The energy ministry tried to introduce such a system in 2011 but soon discarded the plan as inflation worries grew.

Amend energy mix toward renewable energy

The corruption scandals in the nuclear energy industry have prompted leaders to rethink the country's energy strategy.

The energy ministry announced last month that it began working on blueprints to diversify energy sources by 2035. The ministry believes the first plan to generate 41 percent of electricity from nuclear power by 2030 should be reviewed. It will also reassess the initial plan to produce 11 percent of electricity from renewable resources. The government vowed to invite academics, civic groups and industry representatives into the discussion.

Experts agree that Korea should invest more on renewable energy. A report from Hyundai Research Institute, a private think tank and an affiliate of Hyundai Group, said the national energy policy should focus on increased research and development for renewable energy. "By adjusting electricity prices to a realistic level and strengthening legal and systemic measures, the country should create an environment favorable toward renewables," the report said.

However, there was nothing green about former President Lee Myung-bak's green growth policies. The portion of renewable or clean energy remains tiny. In 2012, 7,652 gigawatt-hours (GWh) were generated from hydropower and only 8,618 GWh from alternative energy sources. Together, they represent only 3.2 percent of total power generation in 2012, according to the KEPCO's latest monthly report. KEPCO and its six affiliates produce hardly any renewable energy, compared to the private sector, which generated 8,408 GWh out of the total 8,618 GWh.

Although the government's drive for renewable energy isn't strong, the change toward renewable energy is underway at a grassroots level. e-Pureunnongwon, a large farm based in Icheon, Gyeonggi Province, heats its greenhouses using alternative energy. An employee who declined to be named said that their greenhouses are heated and cooled with underground water. The system uses both electricity and geothermal energy by warming and circulating underground water, which stays above 10 degrees Celsius throughout the year."Many greenhouses use an underground water system nowadays," she said during a phone interview

The underground water system was introduced in the mid-2000s and is gaining popularity. By 2020, 80 percent of greenhouses are expected to use this system, according to Korea Groundwater and Geothermal Energy Association.

The widespread use of this technology, which was initially promoted by the state-run Rural Development Administration, shows that businesses and households will respond to economic factors and choose renewable energy when it becomes affordable. Experts say the removal of subsidies for electricity can lead to more renewable energy.

"We are actually paying people to use more fossil fuel, therefore, making it hard for renewable energy to compete on the same playing field. One of the things we need to do most urgently is to start getting rid of what we call perverse incentives," said Mark Halle, vice president of the International Institute for Sustainable Development.

"We tend to focus on programs to support renewable energy, setting up wind farms, and of course, this is a natural motivation because people want to take positive steps. But we should not ignore the fact that there are many negative things that are in place that if we got rid of would actually have our policies implemented much more quickly and efficiently."

Schneider gives a similar comment on nuclear energy.

"Nuclear energy should be put on a level playing field together with all other ways to provide energy services and then society can choose. Currently, with a government-sponsored nuclear promotion agency and monopolies in power generation and distribution, the conditions are highly biased," said the Paris-based consultant.

"The energy revolution towards high-tech, small-scale and decentralized systems is on its way. Consumers become investors, generators and storers," said Schneider.